23 February 2010

Kenya: Challenges Facing Oil Sector


Recent comments by CEOs of oil companies that the market may suffer shortages of products especially diesel has prompted me to analyse what I consider to be underlying and endemic challenges within Kenya's petroleum supply chain, especially at the Mombasa imports receiving end.

The problems and issues are both systemic and physical. Some background history.

When the pipeline was commissioned in 1978 all products were sourced from the refinery out of crude oil processing and directly inputted into KPC at a single point, and this was an easy and straightforward process involving only KPC and KPRL.

The seven oil marketers at the time had sufficient tankage in Nairobi to promptly evacuate products into the market, and the demands were much smaller.

Then came the oil industry liberalisation of 1994 which saw the market players increase from seven to eventually above twenty five.

An aspect of liberalisation included direct importation of about 30 per cent of market product requirements in lieu of refining, which necessitated creation of KOSF storage at Kipevu for receiving imports.

The market liberalisation also introduced joint bulk procurement of petroleum through open tender system, which reduced working capital requirements for importers and encouraged even more new market players.

A later financing innovation in the 2000s introduced collateral financing within the KPC system which further made market entry easier, but also introduced another constraint on existing KPC storage capacity, as the system became a "bazaar" for products with all the associated transactional hold ups.

As more market players entered the market they did not create capacity to evacuate their products in Nairobi which accounts today for about 70 per cent of national oil consumption.

The only addition in Nairobi tankage was by National Oil, and this cannot be considered sufficient enough extra capacity to cope with the increased products demands from economic growth, unforeseen emergency power generation, and massive road construction projects.

The new marketers who did not invest in storage facilities in Nairobi to receive products continued to rely more and more on the 30 days stocks flexibility permitted by KPC to service their market requirements.

This reduced KPC efficacy for transshipment scheduling of products into the market, thus creating bottlenecks going back to the imports receipts tanks at KOSF.

Here then lies the intrinsic problem.

KPC cannot evacuate products into the market as quickly as it inputs the imports at Mombasa because the system is clogged with products that should have been promptly evacuated by marketers.

It is not usual for an efficient pipeline company anywhere in the world to allow its customers up to 30 days stocks transit time.

If the provision was 15 days, the marketers would have been forced to provide own additional facilities to receive products from the pipeline.

If evacuation of products at Nairobi is delayed, then receipt of imports at Mombasa will be delayed.

Further, without increased evacuation capacity at Nairobi, the benefits of the recent pipeline capacity enhancement project may not be fully realized.

The main complaints by a number of key marketers are genuine because they have direct commercial and financial implications, and as has been noticed recently even legal implications.

When the system is "constipated" with products and cannot evacuate, then ships bringing products cannot offload products as quickly and this results in expensive demurrage charges which amounts to as much as $30,000 per day for the smaller size tankers.

The additional demurrage charges are obviously loaded onto the final pump price to the consumer, and are also unnecessary forex costs to the economy.

The main market players complain that they are unable to service market commitments because the pipeline capacity (read "ullage") is not commensurate with their committed market shares.

They argue that the newer and smaller counterparts are allocated capacity not based on real market shares, but for speculative purposes.

Whatever the claims and counterclaims, the fact of the matter is that to meet their market commitments the larger companies are forced to ferry products by road from Mombasa to Nairobi at an additional cost of about Sh1.50 per litre, which they obviously pass on at the pump price.

The petroleum supply chain problems have become quite visible as demands of a fast growing economy put pressure on the relevant institutions and companies responsible for oil supply.

The problems can be addressed by firstly accepting that a detailed re-look of the entire petroleum supply chain infrastructure and processes is urgently required.

An efficient and cost effective petroleum supply chain is necessary to oil the demands of a growing economy to 2030 and that is why early attention to the petroleum supply chain problems is needed.

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